Creating a More Sustainable Elephant

Has Southwark Done a Bum Deal at Elephant?

Dec 7th, 2012

It emerged this week that Southwark Council’s development partner and global property giant ‘Lend Lease’, is being taken to court by state authorities in Sydney over expected land payments for its Barangaroo development.

Taxpayers were originally promised that land value and $1bn AUS dollars in public spending necessary to assemble the site, would be paid back to the state government once the project is completed. This was part of the ‘profit-share’ or ‘overage’ agreement signed when the plans were drawn up. However, Lend Lease is now disputing how the land should be valued once construction has been completed.

This doesn’t bode well for Southwark taxpayers, who have already forked out at least £38m in emptying the Heygate estate, and are about to put their hands in their pockets for a further £15m to pay for its demolition.

According to this report from the council’s Finance Director in 2007, the deal with Lend Lease involves them reimbursing £20m towards the £32m cost of buying out the leaseholders on the Heygate, £20m towards demolition costs, and a fixed payment for the land of £10m.

So the council is set to receive a total of £50m reimbursement for site assembly, once the Heygate site has been cleared and handed over to Lend Lease - [by which time the council is likely to have spent nearly twice this amount on the task]. The rest of the money the council is expecting to receive from the deal is based on a ‘profit share’ agreement, otherwise known as ‘overage’. However, it is important to understand that this 50% share of the profits comes only AFTER Lend Lease has taken a 20% ‘priority share’ of the profits and a 4% management fee.

So it remains to be seen whether there will be anything left for the council at all in 2026 when the Heygate development is due to be completed.

These ‘profit share’ or ‘overage’ agreements are notoriously precarious, and can be subject to disputes over accounting methods as we are seeing now with Lend Lease’s Barangaroo development. They can also be compromised by delays to development, such as with Lend Lease’s Greenwich Peninsula scheme where the profit share expected from the scheme by authorities fell by £30m for each year the scheme was delayed. (National Audit Office Report – 14 July 2008)

Exactly how much Southwark council is currently expecting to recoup from the profit-share agreement at the Elephant is unclear, as it has rejected all calls to publish any financial details relating to the development.

If the expected profit share is not enough to cover the costs it has incurred in emptying the estate, and the money it will have to cough up for the tube station capacity upgrade to support the new development, then it could end up making a substantial loss on the disposal of its 24-acre primely located Heygate site.
The council currently values its portfolio of 39,000 residential properties at £954.7 per square metre (GIA - Gross Internal Area). At around a total (GIA) of 100,000 square metres, the 1,200 homes on the Heygate represent an asset to the council worth around £100m. So, even if you were to discount the development value of the land, the council should be expecting to recoup at least £220m in overage if it is going to break even and cover its costs from this development(£70m site assembly/£100m existing use value/£50m tube station capacity upgrade).

This 2012 BNP Paribas site viability appraisal of the Heygate development estimates gross profits at £194m. However, the appraisal doesn’t include the site assembly or infrastructure costs - these are expected to be around £120m. If we include these and subtract the developer’s 20% priority slice of the profits, then the whole scheme goes into the red and is set to make a whopping £90m loss!

Suggestions have also been made that the current deal with Lend Lease is a breach of EU competition Law. In 2007 when Lend Lease won the bidding competition to redevelop the Elephant & Castle, the tendering brief included delivery of the new leisure centre and demolition of the shopping centre. Now that these are no longer included in the deal, the regeneration contract should be re-procured or else it could end up being challenged in court under the EU Treaty on State Aid.